How to Pay Off Debt With Credit Card Consolidation
Credit card payments are just some of the debts many people struggle to pay in addition to their monthly living expenses. Making minimum payments on high-interest cards can seem like trying to walk through quicksand because you make very little headway in paying off the principal amount. However, by paying off your debt using credit card consolidation, you can pay off this debt faster. In addition, you could save money in the process thanks to a lower interest rate over time. The key is finding the best credit card offers that make consolidation worth the effort.
- What is credit card debt consolidation?
- The bottom line
What is credit card debt consolidation?
Simply put, credit card consolidation is the process of combining multiple credit card balances together into one total on a single account with one monthly payment. This could be one new credit card with a higher credit limit or a new loan opened specifically to consolidate the debt, preferably at a much lower or fixed-interest rate.
The goal is to eliminate costly high-interest credit cards with a lower APR so more of your money is applied to the principal amount than to interest. Hopefully, this debt management plan results in saving money while getting you to debt-free living.
Types of credit card debt consolidation
While credit card consolidation can be a great choice for many people, it may not be the best option. However, there are some other debt consolidation alternatives that may be a good solution for you.
Debt consolidation loans
A debt consolidation loan, also known as a personal loan, is an unsecured loan you can obtain from a lender usually at a lower interest rate than credit cards. Many credit cards can charge an annual percentage rate (APR) of 22% or higher with variable rates while personal loans may have fixed rates and rates closer to 14%. After using the funds to pay off your credit cards, you will repay the loan over a set period of time with fixed monthly payments. Some loans have specific loan terms and may charge a prepayment penalty if you pay off the debt earlier, so be sure to inquire about any repayment terms.
New credit cards with low rates for balance transfers
If you have a high-interest credit card, that APR can make paying off your debt very hard. However, many credit card companies offer 0% APR introductory rates when you transfer your balance, so you can pay off your debt interest-free. Typically, these offers come with time limitations, so you would need to be prepared to pay off the balance within that timeframe to benefit from the lack of interest.
When reviewing these offers, check to see if there is a balance transfer fee, and, if so, how much it is. Typically, these fees range between 3% and 5% of the total amount you are transferring to the new credit card. Before completing any transfer, you should verify the amount you will save on interest will be more than you will pay for the balance transfer fee.
Home equity loans
If you have a substantial amount of credit card debt, you may be able to use some of the equity you have in your home to pay off the credit cards. With a home equity loan, you usually will have a fixed interest rate that is less than those on your credit cards. Plus, your interest payments on the loan may be tax-deductible.
While the interest rate may be lower on a home equity loan, you will have to pay closing costs on the loan because it serves as a second mortgage on your home. These closing costs may outweigh the long-term costs of paying interest on your credit cards. Do the math to determine which option will save you the most money.
In addition, if your credit card debt is a hefty amount, you will need to have a considerable amount of equity in your home to qualify for the loan, as lenders typically will provide up to 85% of your equity. Also, the higher your credit score, the better interest rate you likely will receive on the loan.
Home equity line of credit
A home equity line of credit (HELOC) is a revolving line of credit similar to a credit card. The amount you are approved for depends on the equity in your home. Again, lenders traditionally allow you to borrow up to 85% of your equity. Unlike a home equity loan, you don’t receive your total amount of funds in one lump sum. Instead, like a credit card, you are approved for a maximum amount, say $20,000, and you can draw up to that amount like you would against a credit card limit.
You can use part or all of the funds during the draw period as determined by the lender. During this time period, you have to make interest-only payments. Once the draw period ends, the repayment period starts. You no longer can draw out funds, and you will be required to pay on both the interest and the principal. And, unlike a home equity loan, the interest rate is not fixed, so your payment amounts and the total amount you pay likely will fluctuate.
Best balance transfer credit card companies
With U.S. Bank’s Visa Platinum Card, you will receive a 0% APR introductory rate for 20 months on all balance transfers within the first 60 days of opening the account. Afterward, the APR changes to a variable rate, which currently ranges from 13.99% and 23.99%. The balance transfer fee is 3% of the total amount transferred to the card. There is no annual fee with this card. To qualify, you will need to have excellent credit.
If you have excellent credit, the Wells Fargo Platinum Card offers a 0% APR introductory rate for the first 18 months the account is open. After that, your rate becomes variable, which currently is between 16.49% and 24.49%. All balance transfers must be completed within the first six months the account is open to qualify for the introductory rate. The balance transfer fee is $5 or 3% of the transfer amount for initial transfers within the first six months and increases to $5 or 5% after the first 6 months. This card does not have an annual fee.
Citi’s Diamond Preferred card offers a 0% APR introductory rate for the first 18 months on balance transfers with a balance transfer fee of either $5 or 3%, whichever is greater. Although there is no annual fee, once the introductory rate expires, the interest rate converts to a variable rate that currently ranges between 14.74% and 24.74%. To qualify, you likely will need to have excellent credit.
Pros and cons
The idea of paying off your debt quickly and for less money sounds appealing, but there are pros and cons to credit card consolidation. It’s important to weigh these out and research your financial situation to see if this type of debt relief is right for you.
Pay off your debt faster
If you do reduce or eliminate your interest rate on the new credit card balance or a loan, you could pay your debt off in less time because all of your payments will be applied to the total principal balance.
Reduce your payments to just one monthly payment
Instead of juggling several minimum monthly payments with different credit card accounts, you can consolidate those payments into one minimum monthly payment. Although the amount you pay may be the same as the total of your previous payments, it may feel more manageable because you have just one payment, and you know more of your money will be applied to your debt instead of interest.
You need good credit for the best offers
To receive or apply for 0% APR introductory rates or the lowest rate on a credit card consolidation loan, you will need a good credit score. Even with pre-approved credit offers, the credit card companies likely will run a check on your credit report before approving your application.
According to Experian, a credit score of 700 or higher is considered good. If your credit score is below 700, you still may be approved for a 0% APR credit card. Of course, having a credit score higher than 700 does not guarantee approval, either. Generally speaking, though, the better your credit, the better your chances for approval.
Your interest rate could change
Unlike traditional loans with a fixed interest rate, credit cards do not have fixed interest rates, so your rate could increase at any time. This could lead to higher minimum monthly payments and take you longer to pay off your debt.
When looking at 0% APR introductory offers, these almost always have limited timeframes. After a specified time — usually, between 6 and 18 months, that rate expires, at which time your account will change to a higher variable rate.
If you opt to take advantage of an interest-free introductory offer, pay close attention to the terms. Is the rate a true introductory rate or a deferred interest rate? With a true introductory rate, you won’t be charged interest on your balance throughout the introductory time period. Once that period expires, you will start to accrue interest on the remaining balance.
With a deferred interest rate, if you don’t pay off the entire balance within the deferred time period, you will be charged interest on the entire transfer balance at the onset of the interest rate period as well as interest on the remaining balance going forward.
Your debt could increase
The idea of consolidating your credit card debt is to pay off that debt as quickly as possible. However, if you are not committed to achieving this goal, your debt could increase. For instance, if you don’t pay off your consolidated balance within a reasonable time, you could end up paying more in interest over the long term.
Another key component of a debt management plan is to change your spending habits. If you consolidate your credit card debt into one account but then continue to charge purchases and expenses to your previous credit card accounts, you’re just adding to your debt load.
Will my interest rates increase with credit card consolidation?
It’s possible. Introductory APR rates on credit cards expire after a set period of time and convert to variable rates. As with credit cards, interest rates on home equity lines of credit also fluctuate. Both debt consolidation and home equity loans offer fixed interest rates, but these loans may not be the right choice for you.
Does credit card consolidation actually save money?
While credit card consolidation can save you money, it depends on the consolidation option you choose. It’s important to review all terms, interest rates and fees to ensure that you will pay less during the repayment period. If you are paying a lower interest rate with a lower monthly minimum payment but you will pay over a longer-term than your initial timeframe, you could pay more money in the long run.
Is credit card consolidation right for me?
Credit card consolidation can be a great choice if you are dedicated to a debt management plan and stick to paying off your debt within the timeframe that produces the most savings. For instance, if you commit to paying off your entire balance within the 18-month, interest-free repayment period, credit card consolidation is a good option. But if you don’t pay off your debt within that period and let your debt linger, you likely will pay more over time than if you paid your credit card balances as originally agreed.
The bottom line
When credit card debt becomes overwhelming, credit card consolidation can be a good choice to merge all your debt into one account with a lower interest rate and one monthly payment. If you commit to paying off the debt, you could pay it off faster than with individual accounts, plus save money in the process. However, if you don’t stick to your debt management plan, you could end up with more debt, not less.
Working with a good credit card company that has an attractive balance transfer offer is one way to pay off your debt quickly. Other alternatives for debt relief include debt consolidation loans, home equity loans and home equity lines of credit. Deciding which one is best for you depends on your own financial needs, your credit history and how much credit card debt you have. It’s important to research and review all terms, interest rates and fees to find the best fit for you.